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Pro-Growth, Post-Election Japan?
Tokyo most desperately needs to enhance economic efficiency.


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Prime Minister Junichiro Koizumi’s victory in this past Sunday’s general election ensures Japan will remain on the path toward privatization — a policy that is as much a demographic imperative as an economic one.

With deaths now outnumbering births, Japan’s aging population already has begun to shrink, two years sooner than anticipated. “From now on, the total population of Japan will start falling. That means if we don’t create a system in which the private sector can carry more responsibility, the burden on taxpayers and on the state will become unsustainable,” Heizo Takenaka, the minister of state for economic and fiscal policy who is also in charge of postal service privatization, recently told the Financial Times.

This is indeed why Koizumi decided to roll the dice and call the snap election after 37 rebels in his Liberal Democratic Party balked at privatizing the nation’s behemoth postal service, the centerpiece of the prime minister’s reform agenda. Sunday’s ballot thus became, in effect, a referendum on the sale of what amounts to the world’s largest bank, with savings deposits of ¥209.5 trillion (or $1.9 trillion). The funds, as a recent Wall Street Journal article pointed out, have often been funneled into public-spending projects intended to prop up Japan’s politically important but economically depressed rural areas.

Surely factored into Koizumi’s political calculation was the knowledge that both business and consumer confidence are on the rise, the stock market is up, and the economy is on the mend. Corporate earnings aren’t too shabby, either.

Current profits for all industries were up 12.9 percent in second quarter from a year before, equaling the average annual percentage gain since 1959, with manufacturing profits up 14.2 percent and non-manufacturing gaining 11.9 percent. In the past four quarters, moreover, earnings for all Japanese industries were 21 percent above year-earlier levels, with manufacturers up 23.5 percent and non-manufacturers up 19.4 percent.

Monetarily, Japan, like the United States, has been on a deflation-reflation roller coaster and now, after a decade-long ride, finds itself back about where it started. The yen today buys just 3 percent less U.S. currency than it did in January 1996, while it takes about 13 percent more yen to purchase an ounce of gold than it did ten years ago. (Gold now costs about 10 percent more in dollar terms than at the start of 1996.)

Another bullish sign for the Japanese economy is real private non-residential fixed investment per non-agricultural worker, which has been climbing almost continuously since mid-2002 and is re-approaching its peak of nearly ¥1,590,000 (or about $14,400), set in the first quarter of 1991. At roughly ¥1,470,000 (or $13,400) in this year’s second quarter, this key component of labor productivity is 38 percent above the low set in 1994 and just 7.5 percent shy of its all-time high. Not surprisingly, manufacturers’ productivity gains (year to year) have averaged an impressive 4.3 percent for the past three and half years.

Increased capital spending is a sign of renewed business confidence, a sentiment also reflected in the Bank of Japan’s closely followed Short-Term Economic Surveys of Enterprises in Japan (Tankan). While expectations are improving among all enterprises, big and small, regardless of industry, large manufacturing and non-manufacturing firms are particularly confident near-term, according to the latest readings.

Longer-term, the restoration of strong and prolonged economic growth will require a marked improvement in the ratio of domestic fixed investment to private consumption. When growth in investment spending outpaces consumption, economic activity expands overall. At the moment, alas, this indicative ratio is in the doldrums. Which is where a post-election fiscal boost comes in.

Empowered by a re-election victory, Koizumi could leverage his political capital by proposing pro-growth tax cuts. Japan currently has four individual income-tax brackets, with marginal tax rates of 10 percent, 20 percent, 30 percent, and 37 percent. In 1999, as part of a fiscal stimulus package, the top marginal rate was cut from 50 percent to the current 37 percent. (For a detailed history, consult the Ministry of Finance’s excellent English-language guide, An Outline of Japanese Taxes 2004.)

Scrapping the maximum 37 percent bracket, for instance, would infuse the economy with substantial new financial capital (because the propensity to invest tends to coincide with income), prompting further productivity gains and pointing the way toward an ultimate solution for Japan’s demographic difficulties.

As its population both ages and diminishes, Japan most desperately needs to enhance economic efficiency, a task that can only be accomplished by bettering the ratio of financial capital to labor capital. To do this means not only pruning the public sector through privatization but also letting individuals (and corporations) keep more of what they earn by cutting tax rates.

– William P. Kucewicz is editor of GeoInvestor.com and a former editorial board member of the Wall Street Journal.



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